By Dr. Mohamed Karbal, Managing Partner at KARBAL & CO, and Nabilah Karbal, Associate at KARBAL & CO
Libyaâ€™s aim to diversify its economic activity by strengthening its financial sector and encouraging investments may prove a success, as the creation of a new financial regulatory agency may restore investor confidence and increase liquidity on the Libyan Stock Market (LSM).
History of the Libyan Stock Market
Created in 2006, the LSM has seen a relative amount of success.1 However, due to the revolution and other factors, the number of companies listed has declined over the years since its creation.2 Concerns have been raised about the illiquidity of the LSM, and investorsâ€™ interest in trading securities.3
In December 2013, Libyaâ€™s Economic Minister Mustafa Abufanas announced the creation of a financial regulatory agency which would regulate Libyaâ€™s entire financial sector, excluding the banking industry which is governed by the Bank of Libya.4
A Financial Regulatory Agency may increase liquidity on the Libyan Stock Market
Importance of Market Liquidity Liquidity is crucial for a stock market.5 Liquidity can be defined as an assetâ€™s ability to be traded on a market.6 An assetâ€™s ability to be traded is determined in part by market demand, which is created by the existence of buyers and sellers on a market.7 If the demand is low, a market may be deemed illiquid, resulting in higher risks assumed by buyers and sellers of a security traded on the market.8 Market illiquidity therefore signifies the difficulty in selling a security.9
In contrast, higher liquidity will increase trading on the stock market and reduce volatile price fluctuations.10 To increase liquidity, risks must be â€œquantifiableâ€ and investors must be confident about making transactions on the stock market.11 Lowered risks, such as political instability, may in fact increase liquidity, as investors will be more confident about investing.
The role of a Regulatory Agency in boosting Investor Confidence
The importance of a nationâ€™s financial regulatory agency is unquestionable. At the wake of the Stock Market Crash of 1929, the Securities Exchange Act of 1934 created the Securities and Exchange Commission (SEC), the U.Sâ€™ main federal regulatory agency that oversees its securities industry. The SEC regulates the sale of securities to protect investors by promoting market transparency, while attempting to foster market integrity and financial stability.12
Just as the Financial Markets Authority of New Zealand was established after the 2008 Financial Crisis,13 the existence of a regulatory agency to enforce securities laws may increase investor confidence in the LSM. With more investors confident and willing to trade on the Libyan stock market, liquidity of the Libyan stock market will increase.
The Potential Powers and Influence of Libyaâ€™s Financial Regulatory Agency
Although the structure and powers of financial regulatory agencies differ per country, many of the characteristics of the agencies remain consistent throughout various jurisdictions. In practice, regulatory agencies are granted independence to act within their scope of power, which includes enforcement and often legislative powers.
Regulatory agencies are granted enforcement powers to enforce legislation enacted by the legislative or executive, rule-making power of a state. In the US, the SEC is instilled with the power to investigate potential violations and bring civil action against those who violate securities laws.14 An example is securities fraud, which is defined as illegal activities committed during the sale of securities, with the most notorious being insider trading.15 The SEC can further sanction violators with civil monetary penalties.16
The threat of civil suits brought by the SEC and criminal suits brought by the Department of Justice deter actors in the securities industry from committing securities fraud. Enforcement powers therefore permit the regulatory agency to protect investors.
For certain regulatory agencies, the scope of independence encompasses a rule-making power, which allows the agency to elaborate preexisting laws by enacting regulations needed to further their mission.17
The powers of the Libyan financial regulatory agency remains to be seen, however enforcement and investigatory powers of the financial regulatory agency can restore investor confidence, as its role would aim to ensure market integrity and transparency on the LSM.
The need for updated legislation to restore public confidence in the Stock Market
With Libyaâ€™s return to privatization and its growing private sector, legislation is needed to properly regulate the industry and restore investor confidence.
After the Enron and WorldCom scandals in the U.S, Sarbanes-Oxley was enacted to restore public confidence by imposing corporate governance rules and requirements for outside auditors.18 Similarly, Dodd Frank was enacted in 2010 after the 2008 financial crisis to restore institutional investor confidence through several of its provisions.
Libyaâ€™s investment laws regulate several industries, and have been in effect prior to the revolution.20 At present, the LSM is governed mainly by Law 11 enacted in 2010, which establishes the basic framework for regulating the stock market and its listed companies.21 The articles of the Law 11 mimic certain elements of U.S securities regulation, such as the thirty-day period for the approval by the SEC of an issuerâ€™s registration statement, periodic reporting, liability of an for misstatements on the IPO registration statement, and requirements of outside auditors for issuersâ€™ financial statements.22 The Exchangeâ€™s Regulation has been enforced in Libya, as several companies that were listed on the LSM prior to the revolution were not initially listed in the 2012 re-opening of the stock market due to not meeting regulatory standards.23 The basic regulatory structure exists. However, updated legislation may further investor confidence and consequently boost the LSM liquidity.
Potential Success of the Libyan Stock Market after certain factors are addressed
The creation of a regulatory agency is merely the beginning. Certain factors must be addressed in order to ensure the stability of the Libyan Stock Market.
Need for Economic and Political stability
In developing countries such a Libya, economic and political instability increases the likelihood of volatility, which signifies the possibility of extreme price fluctuation.24 Although market volatility may yield higher returns, fear of instability can reduce market demand.25 At present, security in Libya is the biggest factor influencing investor demand. Promoting security and economic stability could decrease the likelihood of extreme market volatility.
. . . And if the factors are addressed?
Ranked the second highest HDI in Africa, the standard of living in Libya for its small population is considered above the continentsâ€™ average.26 With the highest oil supply in Africa, and being major global supplier of sweet crude, Libya has potential to be an economic powerhouse.27 Libyaâ€™s potential economic strength has thus important implications on the success of its capital markets, as the increase of its exports and political stability may lead to a boom in its private sector. A strong, more developed economy would indirectly increase liquidity on the LSM.
Whether Libyaâ€™s regulatory agency will effectively increase investor confidence remains to be seen. However, its creation has entered the Libyan Stock Market into a new era, which may provide better investor protection and increased market liquidity.
Please see the footnotes for more details.
 A. Aljibri, Performance of the Libyan Stock Market, Acta univ. agric. et silvic. Mendel. Brun, 32-36 (2012), available at http://www.mendelu.cz/dok_server/slozka.pl?id=57208;download=104968, (accessed Aug. 4, 2014)
 See Id at 32; see also Libyan Stock Exchange says to re-open on March 15, Reuters (Mar. 4, 2012), available at http://www.reuters.com/article/2012/03/04/us-libya-stockmarket-idUSTRE8230T720120304 (accessed Aug. 4, 2014) (At its opening, the LSM listed seven companies, and according to the annual report LSM 2012, twenty-two companies were listed on the LSM in 2010 (including tradable and non-tradable securities). On March 15, 2012, five companies were listed as tradable, which was down from thirteen companies that traded before the revolution)
 Ulf Laessing, Seeking cheap stocks, chaos no problem? Try Libya, Reuters (Feb. 22, 2014), available at http://www.reuters.com/article/2014/02/23/us-libya-bourse-idUSBREA1M00820140223 (accessed Aug. 3, 2014)
 Libyan Financial Regulator Established, Libya Business News (Jan. 7, 2014), available at http://www.libya-businessnews.com/2014/01/07/libyan-financial-regulator-established/, accessed (Aug. 3, 2014)
 Nicholas Econodomies, How to Enhance Market Liquidity. In Capital Markets, ed. by R. Schwatz, Irwin Professional (New York: Irwin Professional, 1995), available at http://www.stern.nyu.edu/networks/how.pdf (accessed Aug. 4, 2014)
 See Kleopatra Nikolaou, European Central Bank, Liquidity (Risk) Concepts Definitions and Interactions (European Central Bank Working Paper Series No 1108 at 14, 2009) available athttp://www.ecb.europa.eu/pub/pdf/scpwps/ecbwp1008.pdf (accessed aug. 4, 2014)
 See Sanford J. Grossman and Merton H. Miller, Liquidity and Market Structure, 43 J. Fin.at 1(1988) (Market liquidity is based on the supply and demand of â€œimmediacy,â€ which is created by the on-going existence of buyers and sellers who are willing to assume the market risk.) available at http://pages.stern.nyu.edu/~lpederse/courses/LAP/papers/InventoryRisk/GrossmanMiller.pdf (accessed Aug. 3, 2014)
 See Id; See also GROSSMAN supra. at 619 (When the demand is low, sellers assume higher risks, as the illiquidity signifies that the stock cannot be sold quickly. The risks assumed include higher increased cost and selling the security at a lower price.)
 See Id.
 See Econodomies supra. at 2
 Governor Kevin Warsh, Speech before the Institute of International Bankers Annual Washington Conference, Washington D.C (Mar. 5, 2007) available at http://www.federalreserve.gov/newsevents/speech/warsh20070305a.htm (accessed Aug. 4, 2014)
 U.S Securities and Exchange Commission, 2004-2009 Strategic Plan at 4, available athttp://www.sec.gov/about/secstratplan0409.pdf, (accessed Aug. 4, 2014)
 Adam Bennet, One financial regulator to rule them all, The New Zealand Herald (April 29, 2010), available at http://www.nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=10641503 (accessed Aug. 3, 2014)
 U.S Securities and Exchange Commission, 2004-2009 Strategic Plan at 35, available athttp://www.sec.gov/about/secstratplan0409.pdf, (accessed Aug. 4, 2014)
 Id at 6.
 Id at 35.
 SEC Chariman William H. Donaldson, Testimony before the House Committee on Financial Services , U.S House of Representative (Apr. 21, 2005) available at http://www.sec.gov/news/testimony/ts042105whd.htm (accessed Aug. 3, 2014).
 See H.R Rep. No. 111-517 (Conf. Rep.)
 See Aljibri supra at 31.
 See Law No. 11 of the Year 2010 for The (Libyan) Stock Market, available athttp://www.saifannaser.com/ar/pdf/49.pdf (accessed Aug. 3, 2014).
 See Id.
 Libyan Stock Exchange says to re-open on March 15, Reuters (Mar. 4, 2012), available at http://www.reuters.com/article/2012/03/04/us-libya-stockmarket-idUSTRE8230T720120304 (accessed Aug. 4, 2014)
 Robert G. Ibotson, Why does market volatility matter?, Insights Yale School of Management, available at http://insights.som.yale.edu/insights/why-does-market-volatility-matter, (accessed Aug. 4, 2014); See Francis X. Diebold & Kamil Yilmaz, Macroeconomic Volatility and Stock Market Volatility Worldwide (National Bureau of Economic Research Working Paper Series 14269 at 7, 2008), http://www.nber.org/papers/w14269, (accessed Aug. 4, 2014) (Macroeconomic volatility in developing countries has a significant effect on the increase in market volatility)
 John Wasik, How to deal with emerging markets volatility, Reuters (Feb 10, 2014), available at http://www.reuters.com/article/2014/02/10/us-column-wasik-emr-idUSBREA1919S20140210 (accessed Aug. 4, 2014)
 Libya 2012, African Outlook Organization, available at http://www.africaneconomicoutlook.org/fileadmin/uploads/aeo/PDF/Libya%20Full%20PDF%20Country%20Note.pdf (accessed August 4, 2014)
 Energy Info. Admin., Country Analysis Briefs â€“ Libya (2012) available at http://www.eia.gov/countries/analysisbriefs/cabs/Libya/pdf.pdf (accessed Aug. 4, 2014)